728x90 AdSpace

Latest News
November 19, 2018

Energy Stocks May Be Oversold


While much ink has been spilled this year on the rout in emerging markets, and, more recently, the fall from grace of technology stocks, natural resource shares are actually the worst performers year-to-date. The S&P Energy Sector Index is down more than 5%, underperforming the S&P 500 by approximately 900 basis points (bps, or nine percentage points).

More interestingly, although oil prices have dropped sharply in recent weeks, they have not collapsed, unlike in early 2016. West Texas Intermediate Crude (WTI) is flat year-to-date, but the global benchmark Brent is still up 6%. This suggests that either the recent collapse in energy shares looks overdone or oil prices have further to fall. Consider the following:

  1. Based on price-to-book (P/B) the energy sector is now trading at the largest discount to the S&P 500 since at least 1995 (see Chart 1). Energy stocks are currently trading at roughly a 50% discount to the broader market.











  2. The sector also appears unusually cheap on an absolute basis. At less than 1.7x earnings, the current valuation is the cheapest since early 2016 and is in the bottom 5% of all observations going back to 1995.
  3. As you would expect, the valuation of the energy sector tends to move (roughly) in tandem with oil prices. When oil prices are lower, the sector’s relative value versus the market also tends to be lower. Since 1995, this relationship has explained approximately 20% of the relative multiple of the sector. Based on oil prices at $60/barrel, history would suggest that the sector should be trading at a 15% discount to the market, not a 50% one.


Valuations hard to justify


As I’ve discussed in many previous blogs, value is a poor market timing tool. Neither cheap relative or even absolute valuations guarantee a bottom. The comparisons against both the broader market and oil prices could simply mean that the S&P 500 and/or oil prices might be too expensive, rather than energy shares too cheap. That said, both the market and oil would have to fall a significant amount to justify today’s sector valuation. As a simple example, if the historical relationship between oil prices and relative valuation were too hold, oil prices could fall to $40/barrel, roughly where they bottomed in 2016, and the energy sector would still appear underpriced.

Finally, there may be another reason to consider raising the allocation to energy shares. Historically, energy stocks have been more resilient than the broader market during periods of rising interest rates and/or inflation. If part of what has dislocated the market this year is the prospect for higher rates and an overheating U.S. economy, energy stocks seem a logical hedge. All of which suggests that for investors sifting through the rubble searching for bargains: Consider U.S. energy companies.

Courtesy of Russ Koesterich, CFA, Portfolio Manager for BlackRock’s Global Allocation team and is a regular contributor to The BlackRock Blog (more by BlackRock here).
Investing involves risks, including possible loss of principal. This material is not intended to be relied upon as a forecast, research or investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy. The opinions expressed are as of November 2018 and may change as subsequent conditions vary. The information and opinions contained in this post are derived from proprietary and non-proprietary sources deemed by BlackRock to be reliable, are not necessarily all-inclusive and are not guaranteed as to accuracy. As such, no warranty of accuracy or reliability is given and no responsibility arising in any other way for errors and omissions (including responsibility to any person by reason of negligence) is accepted by BlackRock, its officers, employees or agents. This post may contain “forward-looking” information that is not purely historical in nature. Such information may include, among other things, projections and forecasts. There is no guarantee that any forecasts made will come to pass. Reliance upon information in this post is at the sole discretion of the reader. Past performance is no guarantee of future results. Index performance is shown for illustrative purposes only. You cannot invest directly in an index. ©2018 BlackRock, Inc. All rights reserved. BLACKROCK is a registered trademark of BlackRock, Inc., or its subsidiaries in the United States and elsewhere. All other marks are the property of their respective owners. USR1118U-658260-2044081 


The views and opinions expressed herein are the author's own, and do not necessarily reflect those of EconMatters.

© EconMatters.com All Rights Reserved | Facebook | Twitter | YouTube | Email Digest


  • Blogger Comments
  • Facebook Comments
Item Reviewed: Energy Stocks May Be Oversold Rating: 5 Reviewed By: Econ Matters